In the petroleum industry, refineries are most concerned about hedging the difference between their input costs and output prices. Their profits are tied directly to the spread between the price of crude oil and the prices of refined products, gasoline and distillates (diesel and jet fuel). This spread is called Crack spread.
The most popular inter commodity spreads involve the simultaneous execution of multiple futures positions designed to replicate the inputs and outputs of several real world product transformations or to hedge that production process by putting on the opposite spread. Examples of these are Crush and Crack spreads.
After you get familiar with the basics of spread trading, you can start to explore more complex strategies that involve more than two legs. In the first part of this article we will focus on multi leg intra commodity spreads like Butterflies and later we will cover multi leg inter commodity spreads like Crack spread and Crush spreads.
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The risk of loss in trading commodities can be substantial. You should therefore carefully consider whether such trading is suitable for you in light of your financial condition. The high degree of leverage that is often obtainable in commodity trading can work against you as well for you. The use of leverage can lead to large losses as well as gains. Past results are not indicative of future results. Hypothetical performance results have many inherent limitations, some of which are described below. No representation is being made that any account will or is likely to achieve profits or losses similar to those shown. In fact, there are sharp differences between hypothetical performance results and the actual results subsequently achieved by any particular trading program. One of the limitations of hypothetical performance results is that they are generally prepared with the benefit of hindsight.
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